Traditional Banks In Decline: The Case of Germany
As far as the retail customer is concerned, traditional banks have for some time now been viewed as parasite-like. Charging fees on almost any service they provide, amending their terms and conditions in ways that disadvantage their customers, and applying currency exchange rates that are too costly. This is also the case in Germany, where over the last several years, many have opted to switch to neobanks or digital banks, which offer more innovative and less expensive financial products. Ever since the ECB started raising policy rates, the competition has become more intense, as alternative institutions have adapted their offerings more swiftly, while establishment banks have lagged in passing on higher yields to clients.
Lagging behind when it comes to retail customer expectations
The content of this post does not constitute financial or investment advice. It is intended for information and education purposes only. The author is not affiliated with any institution and does not earn income from any company or financial product that might be mentioned. References to names of institutions are not recommendations.
You can also read this article on Medium
The landscape for banks in Germany
Despite the fact that cash still plays quite an important role in German society and everyday life in the country, this has begun to change notably. Card and contactless payments have risen in share significantly over the past decade. And generally, essential payments (such as rent, internet, mobile and TV charges, insurance fees, salaries, etc.) require having a bank account. The banks in Germany can be categorized into 3 different groups:
– Private commercial banks — owned by private shareholders and having the largest customer base in the country, many of which operate internationally (e.g., Deutsche Bank, Commerzbank, Postbank, HypoVereinsbank, ING, Santander).
– Public savings banks — banks whose shareholders are communities and cities, have specific local representation and, despite having a similar brand, practically operate as separate institutions (e.g., Sparkasse, Landesbanken).
– Cooperative banks — these are cooperatives and banking unions, usually started to address the capital needs of their specific community and are owned and controlled by their members (e.g., Volksbanken, Raiffeisenbanken).
The problem with traditional banks is that many of them still operate in a way that belongs to the pre-digital era, detached from the reality of the modern demands of customers today. When I moved to Germany in 2015, practically no bank offered the option to open a bank account without a physical presence. There was a very taxing identification process in a branch requiring local registration documents, a credit assessment, as well as a document showing evidence of income or employment. Nowadays, some of these requirements have been relaxed and many offer online registration, but that does not span all types of banking products and is usually limited to the simplest ones (such as the Girokonto or current account).
This is why, especially younger people and expats prefer to use fully digital banks (Direktbanken) or neobanks these days for many financial services. Usually, all of their services are offered in an online or mobile version and the process to open an account and use them is generally quite simplified. Similarly, there are other online-only fintech companies and startups that offer services with better terms and at lower costs. But that is not the only reason why customers prefer them — it comes down to how inadequate traditional banks have become in offering what the customers need, how and at what price.
Establishment banks need to improve… a lot
Traditional banks lack in lots of areas. That is not to say that digital banks are perfect or meet all customer needs. It simply means that if newer, more dynamic institutions are able to offer more in-demand services, in a more simplified package, and adapt to client requirements faster, then banks part of the status quo must find ways to do the same to remain competitive. This is clearly visible in customer surveys: in 2023, 78% of Germans who decided to change banks, chose a direct bank, according to norisbank. That was particularly the case for those under 30.
Why? According to this McKinsey survey from 2023, customer expectations of what a bank should offer continue to grow and evolve. One key aspect of this result is the expectation for a thorough digital connectivity experience and a range of new products, as well as the ability to use banking in nonbanking spaces, such as financing big purchases while shopping on a retail website. For 79% of respondents, obtaining online wealth advisory services has become the most important feature they require.
Hence, several notable problems with services offered by establishment banks need to be addressed:
1. Account opening process
This process has become simpler at regular banks over the last several years, however, it is arguably still much more streamlined at neo- and digital banks. The online process is generally straightforward, identification is quicker and painless, and the duration between request and activation is usually much shorter (days rather than weeks). Despite regulatory requirements, traditional banks need to ensure that this process is conducted much more efficiently than it currently is — and is not treated as just another cost passed onto the client. In a highly dynamic digital economy, where especially the younger generations demand that things move as fast as possible, this is a necessary change.
2. Costs
The average maintenance fee for a regular current account in 2023 was €117 per annum, while neo- and digital banks offered usually at least one free option (with certain limitations of services) and multiple paid options at an average cost of €48 per annum. Take the example above of the traditional bank where the largest majority have accounts in Germany — Sparkasse. Despite its dominance in the retail market, its deposit products come at an average cost generally much higher than what is available at newer institutions. According to Finanztest experts, there are no signs that low-cost or free offerings by traditional banks will increase going forward. On the contrary, they are expected to decline as credit institutions are not eager to compete for new deposits at the moment. But if they continue to charge several times higher fees, then the average bank customer is likely to keep seeking better options, as has been the case in recent years.
3. Interest rates
When the ECB started hiking in 2022 in response to the spike in inflation, conventional credit institutions reacted slowly in passing on the rate increases to depositors. Rates on loans increased much faster and to higher levels. As a result, the net interest income of banks jumped significantly last year. Overnight deposit rates have remained relatively low, pushing customers to seek higher yields by switching to term deposits or money markets instead. The results are visible on a macro level: loan demand has declined, depressing consumer spending, while deposit transitions have increased.
4. Trading tools
Traditional banks have not caught up with offers from alternative financial institutions for easy access to trading accounts. Many challenger banks now offer stock, ETF and cryptocurrency accounts embedded within the same account, with limited low-cost trading options (for example, several transactions per month that are commission-free). One of the most relevant customer expectations that appears to be growing in importance, is to be able to utilize as many financial services as possible ‘under one roof’ or ‘in one app’. Personal money management via various investment solutions is something many people are attempting to do on their own these days, and having this kind of service embedded provides highly-valued convenience.
5. Sub-accounts
Many neobanks offer free sub-accounts in different currencies — something that most traditional banks lack and would charge additional fees for. This is especially relevant for people who travel, conduct business internationally, or are expats.
6. Currency exchange rates
The bid-offer spreads on foreign exchange transactions at traditional banks are simply uncompetitive. Specifically, large conventional banks apply unreasonable mark-ups which could increase the costs of such transactions substantially. On the contrary, digital and neobanks generally offer much better exchange rates, more closely aligned to the market ones, which is especially beneficial for large currency exchanges.
7. Immediate real-time transfers
Adding to the overall costs, real-time domestic transfers could cost quite a bit more, even when done between accounts within the same credit institution. For neo- and digital banks, intra-bank transfers are usually immediate and free of charge. Even when challenger institutions do apply fees, they are usually more transparent and overall lower (though there are exceptions), while international transfers for instance could turn out to be quite expensive with regular banks.
8. Wealth management and budgeting tools
This is something most types of banks in Germany are currently lacking. As mentioned before, customers are looking for a comprehensive service offering within one app or account. They need to have uncomplicated digital access to the variety of services they require, such as ways to screen securities and investment plans, assess the suitability of portfolios based on their risk profiles, or create simplified financial plans. Many banks can classify income and expenses into categories, but real budgeting functionality that is useful in reducing overspending or achieving financial goals is still very rare. This is one area where banks can take advantage of client demands and significantly enhance the complete banking experience and added value for their clients but are currently not.
9. Direct immediate support
One major advantage of the no-branch business model of challenger banks is that there is an option for relatively quick and convenient contact via chat with a support person. This is particularly useful when there are problems with the banking products the customer is using or in cases of emergency. That is not to say that having a physical branch is sometimes not preferable or useful — and given the attachment of older generations to such branches, it can indeed be a competitive advantage for traditional banks. The problem is that these can often be very inefficient. In efforts to cut costs, many banks have resorted to significantly cutting the number of available branches (while not investing sufficiently in an alternative support infrastructure) over the last several decades, and the staff employed at these branches is often also reduced. Furthermore, they are not always able to cater directly to every customer request at short notice and could require appointments in advance for certain services, which could take weeks. And service in foreign languages is even more challenging.
Conclusion
Retail bank customers in Germany need a wider range of services with better conditions. Traditional banks in the country offer insufficient digitalization and the range of services comes at a cost and with conditions that are still far from what client demand surveys point to. While digital and neobanks are not perfect, they are more flexible when it comes to evolving demands. Conventional credit institutions need to enhance their products, the modes in which they are offered, and the prices they apply so that customers know their business is valued and prioritized.
Author: Nikolay
Founder of MoneyCraft
